Wednesday, September 14, 2016

Neel Kashkari’s Supply-Side Solution to Mostly a Demand-Side Problem

Neel Kashkari tries to explain the slow pace of the recovery from the Great Recession:

When accommodative monetary policies were coupled with expansionary fiscal policies, other experts had reasonably expected a strong recovery from the depths of the Great Recession. Going back decades, the U.S. economy has exhibited a remarkable ability to bounce back: The rule of thumb was the deeper the recession, the stronger the recovery. Yet, the U.S. economy has experienced the weakest recovery in the postwar period, despite unprecedented policy responses to a very deep recession. Why?

My question here is why did you frame this so poorly? We had some fiscal stimulus in 2009 but it was not sufficient and followed by the fiscal austerity after 2010. Going back decades as in periods when the Federal Reserve engineered inflation fighting recessions by raising interest rates. Does Kashkari not get the fact that interest rates over the past several years are not at levels we saw a quarter of a century ago? I will give him credit for noting some key facts but his supposed expert on these matters is Greg Mankiw as it turns to seven possible underlying factors. After much discussion, here’s his bottom line:

We have come up with seven diagnoses and, like Mankiw, we don’t know for sure which ones are right. But looking at the symptoms, both domestic and global, suggests to me that we are likely seeing a confluence of three fundamental causes all combining to slow the economic recovery: (1) challenging demographics, (2) psychological scarring from the crisis and (3) lackluster technological innovation. Unfortunately, these headwinds aren’t likely to reverse anytime soon on their own. The good news is that we, as a country, aren’t powerless to address these fundamental causes. We have identified a series of policy responses that could be effective over time and have little downside risk. An obvious way to spur innovation and entrepreneurial activity is to increase government funding of basic research. Another promising policy is immigration reform, especially for high-skilled workers. Over the longer term, policies that improve education, streamline regulations and make the tax code more efficient should allow the United States to retain its dynamism, creativity and willingness to take risks.

Is it all about the supply-side? He continues:

Given today’s low borrowing costs, there is a strong case for increased government spending on deferred maintenance of infrastructure that will be necessary to sustain our economy. However, I am skeptical that a large-scale expansion of government spending by itself is the best way forward, since larger fiscal deficits will lead to higher expected future taxes, which could further undermine private sector confidence. Chronically weak demand might have been an important part of the diagnosis for the U.S. economy in the depths of the recession, when many workers and factories were idled. By 2016, however, the labor market appears closer to normal, which limits how much can be achieved by boosting demand to increase employment further.

His 3rd diagnoses was entitled “Secular Stagnation” and did consider some of the Keynesian suggestions for raising aggregate demand. Alas his post strikes me as too dismissive of this view relying a bit too much on supply-side solutions. But then his expert is Greg Mankiw.

1 comment:

What does he mean by "supply-side" here. Wages are low and demand scarce so where is the incentive to invest heavily in capacity? The problem is this general equilibrium mentality that ignores disequilibrium dynamics.